Economics

Worksheet 21.1
US vs. China Trade War could this be the beginning?
In September of 2009, US president Barack Obama gave a speech on Wall Street in which he reflected
on the many lessons America had learned since the beginning of the financial crisis of 2008 and 2009.
In his speech, the president urged his audience of investors, bankers and brokers that,
Normalcy cannot lead to complacency. Unfortunately, there are some in the financial industry
who are misreading this moment. Instead of learning the lessons of Lehman (an investment bank
that collapsed in 2008) and the crisis from which we are still recovering, they are choosing to
ignore them.
They do so not just at their own peril, but at our nations
ABC News: President Obama Delivers More Tough Talk to Wall Street on Financial Regulations
In addition to his warnings about the threat posed by overly risky financial markets to the US economy,
President Obama expressed his commitment to free trade and the fight against protectionism. He said
that enforcing trade agreements is part and parcel of maintaining an open and free trading system.
The enforcement of existing trade agreements Obama refers to is his way of justifying a decision his
administration made over the weekend that actually limits free trade between America and one of its
largest trading partners, China. In the week prior to this speech, Obama had approved a 35% tariff on
automobile tyres produced in China and imported into the United States.
In his speech to Wall Street, Obama decried protectionism and called for expanded trade and free trade
agreements which he claimed were absolutely essential to our economic future. But the same week,
he supported a protectionist measure aimed at keeping foreign produced goods out of America in order
to save a few thousand American jobs.
Obamas support for the tyre tariff can be evaluated using a simple economic model showing the effect
the tariff will have on Americans and Chinese producers. The graph below demonstrates how the new
tariff would affect various stakeholders.




 







 

 




  

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The key point to notice in the above graph is that a tariff on imported tyres results in a net loss of
welfare in America. The blue area represents the increase in the welfare of tyre manufacturers (this
could be interpreted as the jobs saved in the tyre industry and the profits earned due to higher prices);
the black areas, on the other hand, are welfare loss. Since all tyre consumers in America pay more for
their tyres due to the 35% tariff, real income is affected negatively for the nation as a whole.
One effect of the protectionist policy the graph does not illustrate, and perhaps the most serious
negative impact of the tariff on America, is the response the Chinese are likely to take to what they
interpret as a violation of existing free trade agreements between the US and China. China may choose
to implement retaliatory tariffs on certain US products imported to China, such as agricultural goods
and high skilled manufactured goods.
The problems with protectionism are myriad. Clearly American consumers suffer through higher tyre
prices. In addition, Chinese manufacturers will see sales fall as their product becomes less competitive
in the US market. According to some reports, as many as 9,000 workers in the Chinese tyre industry
would lose their livelihoods due to declining demand from the US. But the unforseen effects of the US
tariff on Chinese tyres is the retaliatory measures China may take. If China were to impose new tariffs
on American automobiles and poultry, the scenario in the graph above would be reversed, and Chinese
consumers would face higher prices, Chinese car part and poultry producers will experience rising
sales, while the American auto worker and chicken farmer would suffer.
Free trade tends to result in net benefits for economies that choose to participate in it. American tyre
manufacturers are certainly harmed by cheap Chinese imports however, America as a whole benefits
through cheaper goods, more consumer surplus, higher incomes in China and therefore greater demand
for imports of products made in America.



 







 

 




  

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Questions:
1. Why is the Chinese government so upset about a new tax on such an insignificant product as
automobile tyres?
2. Some would say that it is a small price to pay for Americans to face higher prices for one product
like tyres in order to save 7,000 Americans jobs. Would you agree? Why or why not?
3. How would the Chinese governments reaction to the US tariff on Chinese tyres lead to possible an
even greater loss of American jobs than the continued import of cheap Chinese tyres?
4. If 7,000 Americans were to lose their jobs due to free trade with China, what would we call the type
of unemployment experienced by these workers? Is this the same type of unemployment
experienced by the 700,000 workers who have lost their jobs each month during the last year of
recession in the United States?